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As the Once Hot Economy Smolders, a Hawkish Fed Gets New Ammo

The biggest surprise this past week was the unexpectedly large rise in the Payroll Employment Report, at +528K, more than double what appeared to be an optimistic consensus estimate of +250K. Most of the major equity indexes eked out a slightly positive week (see table), but neither the equity nor the fixed income markets liked the Payroll number because it warrants more Fed hawkishness.

In bond land, on Friday (August 5), the 10-Yr. Treasury closed at 2.83%, up from 2.66% on Wednesday. Since mid-June, yields had been moving lower as the bond market was pricing in a Recession scenario in which the Fed would begin its pivot toward ease in early 2023. The 10-Yr. Treasury had nearly touched 3.50% in mid-June. The 2-Yr. Treasury closed at 3.23% on Friday, up a whopping 20 basis points (bps) from Wednesday’s close and 34 bps from the last data point in July.

 Monetary policy is now operating through the private sector credit markets. That is, the Fed, via its “forward guidance,” i.e., the dot-plot and other public pronouncements (i.e. jawboning), has been manipulating private sector interest rates to levels the Fed thinks appropriate. At mid-week, it was apparent that the Fed did not want the credit markets to move to lower rate levels, so several Federal Open Market Committee (FOMC) members made hawkish public comments, and, rates began to move up a they pontificated. Thus, even before Friday’s exceptionally strong looking Payroll Report, the bond market was dealing with heightened volatility. 

Then came Friday’s Payroll Report, and despite the fact that there are still six weeks before the next Fed meeting, including two CPI reports and one more  Payroll Report, the markets now appear convinced that the Fed will move an additional 75 bps in September with, perhaps, more to come in November and December. Indeed, this appears to be what the Fed wants.


Nonetheless, the extraordinarily strong July Payroll data appears out of sync with all the other incoming data on the state of the labor market. For example, the +30K rise in manufacturing payrolls is at odds with the contraction in the Purchasing Managers’ ISM Manufacturing Index; the +32K rise in construction employment makes little sense when we have seen significant decline in New Home Sales and Single-Family Housing starts; and the rise of +22K in Retail is a head scratcher when Retail Sales volumes are flat to falling, retailers are overstocked, and the likes of Walmart, the U.S.’s largest retailer, are announcing layoffs. Let’s also remember that the Payroll Report is upwardly biased by the birth/death small business automatic add-on, this month likely +100K or more.

The sister survey, the Household Survey (ignored by the media) did rise +179K in July, mainly from the growth in the number of farm workers.  And that +179K still doesn’t make up for the negative -315K June reading. Non-farm employment fell -112K. The Household Survey also reports full-time and part-time jobs, something not shown in the Payroll Repot. Full-time jobs fell -71K in July. All the growth was in part-time work (+250K), not a statistic implying labor market strength.

The official “unemployment rate” (U3 for those with a technical bend), fell from 3.6% to 3.5%, mainly due to another reduction in the Labor Force Participation Rate (LFPR), i.e., the number of people with jobs plus those actually seeking employment. Once again, it is hard to reconcile the fall in the LFPR with the plethora of articles and surveys indicating that many of those who “early retired” during the pandemic have now rejoined the labor force. In one survey, 65% of those returning to work said it was because of inflation, while 45% said it was due to the “Bear Market” in equities. In addition, we have seen reports that women with small children have also rejoined as day-care has been re-opening.

Other employment data are no rosier:

  • The weekly Initial Unemployment Claims (ICs) continue to rise, up +260K the week ending July 30, rising +6K from the prior week and +94K from last spring’s low (see chart at the top of this blog).
  • Challenger, the company that follows layoff announcements, says job cuts are up +36% Y/Y; the June and July totals have increased more than +58K, the highest two month total since February-March 2021.
  • The JOLTS (Job Openings and Labor Turnover Survey), a favorite of Fed Chair Powell, showed -605K job openings in June (latest data) with job openings down -343K in retail (a record plunge), -91K in leisure/hospitality (down three of the last four months), -21K in manufacturing (after -201K in May) and -71K in construction.

So, NO – the latest Payroll Report does not change our Recession view! This single data point (the Payroll Report’s +528K), outlier that it is, is playing into the hands of the “no recession” crowd; and we wonder if there isn’t some political pressure here.  Based on this single number, markets now think that the Fed will raise rates another 75 bps at their September meeting. As noted earlier, there is still a month and a half before the Fed meets again with one more employment story and two more inflation reports in the interim.

Other Data

The incoming non-employment data remains weak:

  • Residential Construction fell -1.6% M/M in June, the fastest decline since early in the pandemic (April 2020)
    • Single-Family Construction: -3.1% (June); Pulte, a major U.S. homebuilder, said that orders for new homes fare down -23% Y/Y.
    • Non-Residential Construction: -0.5% M/M June; -0.8% M/M May. This was broad-based with the Power, Accommodation, Transportation, Highway/Street, and Commercial sectors all negative. (Telecom and Water Supply were positive.)
  • Headlines:
    • New York Times July 30: Retailer’s Dark Side: As Inventory Piles Up, Liquidation Warehouses Are Busy… To Clear Shelves, Retailers are Selling to Liquidators at Steep Discounts.
    • Financial Times July 30: “We’ve Never Seen Anything Like This:” U.S. Retailers Compete to Clear Stock.
  • University of Michigan Survey of Expectations: In past blogs, we have discussed the U of M’s Consumer Sentiment Index and its recent probing of historic lows. As part of its process, the survey also inquires as to future expectations. When businesses are downbeat, they cut costs, reduce inventory, slow hiring, and prepare for Recession.

Here is the trend in this index: April: 62.5; May: 55.2; June: 47.5; July: 47.3. Note that the June and July data are lower than they were in any of the months just prior to the five previous recessions.

Recession StartExpected Business Conditions Index
May 202065.9
June 200849.2
September 200173.5
October 199050.9
March 198253.1

                                    Source: Rosenberg Research

  • The recent run-up in credit card debt is also a concern. No doubt consumers are just trying to maintain their standard of living. But, credit balances can only rise so far before financial institutions say “enough.” A recent study by the New York Regional Fed indicated that “…the 13% cumulative increase in credit card balances since Q2, 2021 represents the largest increase in more than 20 years.”
  • Not only is the U.S. consumer showing strains, but so are the consumers in the world’s other major economies.  The charts show the rapid falloff in consumer confidence in China and Europe. Weaker consumption there reduces U.S. exports.


  • The good news is that the price of oil continues to fall. WTI (West Texas Intermediate –  September delivery) closed at $88.53/bbl. on Friday (August 5), down more than -27% since its early June ($122/bbl.) peak. AAA says the price/gallon of regular gasoline has fallen -18% from June 14 ($5.016) to August 5 ($4.113).
  • In the ISM Manufacturing Survey, the orders/inventory ratio is the lowest it has been since May 2020. This is bad news for production schedules. Backlogs have also weakened to their lowest level since July 2020, and  supplier delivery delays are down to pre-pandemic levels. In addition, the prices paid index showed the sharpest decline in 11 years. The symptoms of supply chain disruptions are disappearing – good news for the inflation outlook.
  • The growth rates of the monetary aggregates are negative. When these are negative for a substantial period of time, the economy suffers deflation, or at least, disinflation.  And, since the Fed is in QT mode (Quantitative Tightening – reducing bonds in its portfolio which removes reserves from the banking system), the monetary aggregates are expected to continue to show negative growth rates.
    • The Monetary Base (cash + bank reserves): -1.9% M/M June, negative monthly growth rates for six months in a row, and -8.6% growth Y/Y. Growth rates of this indicator reached 60% in 2020 and 30% in 2021. (Did we hear someone say “inflation”?) The Monetary Base growth rate was negative in January ’01 and in December ’07. Remember what happened next?
  • M2 (cash + demand deposits + time deposits): -0.1% M/M in June and negative in two of the last three months. This series hasn’t seen a negative month in more than 20 years! It was +12.9% Y/Y in July 2021.
    • M1 (cash + demand deposits): -0.4% M/M in June and -2.9% annual rate for the past three months. On a Y/Y basis, this was +11% in March.
  • Based on the above, we are pretty optimistic that June’s CPI will turn out to have been the peak.

Final Thoughts

Businesses, all over the country (world) are preparing for Recession; they see that productivity has fallen two quarters in a row, as has real GDP. Thus, they are looking to cut costs, right-size inventory, and stop hiring (and, in many cases, reduce employee headcount, e.g. Walmart). From a macroeconomic viewpoint, such simultaneous behavior by businesses, while rational on a company by company basis, does tend to bring-on/deepen the recession.

Mid-week last week, the Fed appeared to be looking for any excuse to be hawkish, and to stop the markets from assuming that they would pivot when the Recession was fully recognized. They sent out several FOMC members to jawbone that sentiment. While we believe the Payroll number (+528) is an outlier, it turns out to be the perfect excuse for a hawkish Fed. A Recession is staring them in the face, yet they have this strong desire to quell a lagging indicator (the CPI). They look like they will continue to tighten into a “Bear Market” in equities, two successive quarters of negative real GDP growth (with Q3 also looking to be negative), negative growth in the monetary aggregates (always a sign of a slowing economy), sluggishness in every facet of employment (except one), and a bond market screaming “Recession.” Talk about “tone deaf!”

The Recession has already begun! Past Fed actions are still to be felt. A bumpy ride awaits.

Robert Barone, Ph.D.

(Joshua Barone contributed to this blog)


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